Copart’s Q1 2025
Outstanding business, fair price?
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Hi reader,
Copart reported first-quarter earnings of its 2025 fiscal year last week. These were pretty good, but by no means was I expecting the reaction the stock saw considering its already elevated multiple. The market has sent Copart’s stock up more than 15% since reporting these earnings and it’s currently standing at all-time highs:
Copart has been one of the big winners of the Best Anchor Stock portfolio (thus far); it’s up 130% since I included it in my portfolio for an annualized return of 41% (the highest of any company in the portfolio). This said, it’s pretty evident to me in hindsight that I made a position-sizing mistake as I did not size Copart enough when it was trading at under 30x earnings. This is very easy to say in hindsight, but it was not as easy to see back then as pretty much everything is going in Copart’s favor today. We should not only look at our failures when looking for mistakes, as there are also plenty of these among our successes.
Now, this spectacular run in the stock price has raised reasonable questions about valuation. There’s no denying Copart is not a cheap stock, but let’s look first at the company’s good earnings and talk about valuation later.
Before jumping into the summary table, I’d like to say that this quarter’s earnings call was probably one of the best I’ve read and I highly recommend you read it if you are interested in understanding the dynamics of Copart’s insurance business.
The summary table and some comments
Here’s the summary table for Copart:
The first thing I would highlight would be the growth rate. Copart continued to grow at a double-digit clip, and the 15% revenue growth in service revenue was impressive considering it accelerated markedly from last quarter despite suffering tough comps. Of course, Copart benefited from two significant Hurricanes in Florida (Helene and Milton), but as these events become more recurring I think it’s fair to consider them business as usual for the company:
Speaking about CAT events…Copart has changed how it accounts for these. The company used to expense costs related to such events when incurred regardless of whether it had or hadn’t sold the cars related to such expenses. This recognition policy created some temporary margin headwinds, but the company now only expenses the costs related to the cars it has already sold, capitalizing the rest:
This reflects non-capitalized costs associated with units sold in the quarter, which is a change from our past CAT financial disclosures. There remain $18 million in costs, which were incurred and are currently capitalized on the balance sheet. These will be recognized as the remaining CAT units are sold.
This is obviously good for everyone because it smooths out results and avoids having to make adjustments when CAT events happen. We should always be careful when a company capitalizes expenses, but I think it makes quite a bit of sense in this case.
Regardless of this cost capitalization, CAT events are not very profitable ventures for Copart, but the company executes this “lower-margin” business to satisfy its customers (insurers). Gross Margins were negatively impacted by CAT events this quarter (albeit they were pretty resilient), but the company “turned” the cars faster:
Our advanced preparation and our team’s execution this time around yielded still better results with approximately twice as many vehicles picked up in the 1st 10 days of these 2024 storms in comparison to Ian in 2022.
By the end of October, just 3 weeks after landfall for Milton, we had sold approximately a quarter of all of the assigned vehicles we would ultimately received from both Helene and Milton.
“Turning” cars faster positively impacts cash conversion through faster inventory turnover, but the reason why cash flow significantly improved this quarter has more to do with a $100 million differential in the prepaid expenses line item.
That said, turning inventory faster is a source of optionality for Copart as it can dramatically improve its cash conversion. The company has “complained” several times that the real bottleneck in the salvage process (which varies across states) is getting their hands on the salvage title (i.e., bureaucracy). This is one of the reasons why the company released Title Express, which is gaining quite a bit of traction:
We're now managing the titles for approximately 1 million vehicles per year. So now it's a sizable portion of every - of all the titles due process on behalf of insurance carriers.
Copart’s SG&A expenses continued surging, but for a good reason.
There are two underlying drivers of these expenses. The first is the company’s non-insurance business, which requires a different employee set than the insurance business. The second (and probably most significant) one is Purple Wave:
This increase of $37 million reflects growth across the investments we have made into growing our specialty equipment sales team. We expect to generate meaningful growth in specialty equipment gross transaction value over the next 12 to 24 months as a direct result of this investment.
The SG&A investment that we’ve made, we basically doubled the headcount in our sales team since the acquisition.
These investments seem to be frontloaded so they are evidently pressuring Copart’s operating margin, which decreased more than 300 basis points year over year. The good news is that Purple Wave is gaining share thanks to these investments:
Purple Wave has driven double-digit gross transaction value growth year over year for the trailing twelve-month period, which significantly outpaces industry growth in the equipment auction marketplaces they serve.
The second thing worth noting is that, due to these investments being frontloaded, the company is currently underearning:
We expect these investments to partially recede over the next 12 months and believe the business will be well positioned to generate strong operating leverage in the future.
While this underearning is evident at the operating level, I wouldn’t say it’s true at the net income level. Copart has a significant cash position, which it has been investing in treasuries. With interest rates now starting to come down, I wouldn’t count on these earnings (at least to the same extent) going forward.
It’s also worth noting that Copart’s non-insurance business (where I would also include Purple Wave) is a source of optionality and a protective barrier against the company’s terminal risk. Blue Car and Dealer volumes continued growing faster than the insurance business. This evidently means they are taking share of total revenue, but we don’t know from what base. This shift is good for several reasons.
First, it makes the company less reliant on accidents and somewhat diminishes its terminal risk: the arrival of autonomous driving. Copart will always rely on its insurance business, but there’s no denying that less profits will be at risk when autonomous truly comes and penetrates the vehicle fleet. Copart’s management believes this risk is probably overdone:
Safety technologies penetrate gradually into new vehicle shipments, and still more gradually into the installed base of drivable vehicles.
The current US fleet is around 13 years old, so if all new vehicles sold were equipped with autonomous driving capabilities, it would take around 13 years to replace the entire vehicle fleet (and this is assuming people don’t replace their vehicles with used vehicles).
The second positive impact of the non-insurance business is that it’s improving Copart’s inventory quality and making ASPs more resilient than the Manheim index.
And increasingly, we’re working towards being close to having lower damage vehicles flowing through BlueCar.
This is, in my opinion, what has caught the market by surprise over the past couple of years and one of the explanations behind the run in the stock price. Copart used to see insurance volumes and ASPs moved in opposite directions, but the company seems to be currently operating in the sweet spot where volumes are returning without a corresponding decrease in ASPs.
The impact Trump can have on Copart is also interesting. One can, of course, speculate however they want, but this is how Copart’s management sees it:
You can imagine scenarios in which the value of the cars we sell are certainly higher because they’ve already landed on US shores and so they are now competing against vehicles or parts from overseas that may now face new tariffs.
Many experts are trying to understand what industries tariffs will have the most significant impact on and one of the “winners” seems to be the automotive industry. The reason is that the industry relies on parts built abroad, and as Copart’s management rightly points out, to the extent that these parts get more expensive, Copart’s inventory becomes more valuable.
The four drivers of Copart’s insurance business
Earlier in the article I claimed that this quarter’s call was one of the best I’ve read for Copart (although I must say it’s hard to choose). Management clearly outlined the drivers of its insurance business, which can be summarized as follows:
Population growth
Vehicle miles traveled
Accident rates and severity
Total loss frequency
The first two have been clear tailwinds throughout Copart’s history. The third constitutes a headwind and should end up (the “when” matters) culminating in the company’s terminal risk: no accidents due to a 100% autonomous fleet. It’s the fourth one, however, that has allowed (and will allow) Copart to grow strongly despite fewer and less severe accidents:
Today versus 1990, there are approximately 1 third fewer crashes and fatalities per 1 million miles driven.
As discussed above, Copart’s foray into non-insurance volumes and specialty equipment should, in theory, reduce its terminal risk significantly. We don’t know the percentage of sales from either of these sources, but we do know they are growing faster than insurance and, therefore, are helping the company diversify away from the latter.
Highlights in the international business
There were also several highlights across the company’s international business, which should, in theory, help it diversify away from its terminal risk. The reason is that, while autonomous might arrive “earlier” in the US, it might take more time to do so in other countries where Copart can continue sourcing volumes.
International revenue grew 30% year over year, with service revenue growing 16% year over year. Both these metrics showed strong growth compared to history. This is good news for Copart’s shareholders because one of the “unknowns” with the company was if they would be able to build something similar in international markets as they have in the US. While it’s still very early into the story, it seems to be progressing adequately.
Valuation and what I will do with my position
I’ve often said that Copart is one of (if not “THE”) the highest-quality companies I have ever researched, and I still think this stands true today. However, investing is not only about finding great companies but about finding them at attractive prices (there are two sides to the coin). At the beginning of this article I mentioned that I made the mistake of not sizing Copart appropriately when it was trading at an attractive valuation, but what’s the best thing to do after the recent run?